Stocktake: Wall Street is getting expensive, is it sustainable?

Up more than 25 per cent in 2021, the US stock market is much more expensive than international markets. Is the valuation gap unsustainable, or do investors get what they pay for? The latter, says DataTrek Research.

Yes, the US looks expensive. The S&P 500 trades for 21.4 times estimated earnings, while the Russell 2000 small-cap index looks even pricier, trading on 27.4 times estimated earnings.

In contrast, French stocks trade on a price-earnings (PE) ratio of 16.2. British equities, with a PE of 12.1, are cheaper again. Japanese stocks are somewhere in between, trading on 14.9 estimated earnings.

Earnings

The MSCI Emerging Markets trades on 12.7 times expected earnings, while the MSCI EAFE index of non-US developed markets has a PE ratio of 15.5. In other words, global equity markets trade for “very old-school” valuations, says DataTrek, roughly 13 to 16 times estimated earnings, with two exceptions: the S&P 500 (21.4) and the Russell 2000 (27.5).

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However, DataTrek argues the Russell 2000’s valuation is misleading. Roughly a third of the index is unprofitable, skewing overall valuations. Another index, the S&P Small Cap 600, trades on 15.4 times earnings – in line with the aforementioned MSCI EAFE.

As for the S&P 500, the highly-profitable technology sector accounts for 29 per cent of the index, with another 13 per cent in Amazon, Google, Tesla, and Facebook. In contrast, tech accounts for only 10 per cent of the MSCI EAFE.

The MSCI Emerging Markets does better – 21 percent technology, and another 12 percent “tech-adjacent” – but many are Chinese companies, which bring their own risks.

Surging earnings mean the US remains the “place to be”, says DataTrek. “Sometimes cheap is expensive”.